Principles of Finance - Key Concepts Flashcards (Video Lecture)

Flashcards cover core concepts from the lecture notes: the nature of finance, the difference from accounting, market structures (primary/secondary, IPOs, placements), liquidity, cash focus, time value of money (simple vs. compound interest, PV/FV, effective vs. stated rates), risk, and basic corporate finance ideas like agency problems and mutually exclusive decisions.

What is finance a study of?

How individuals, businesses and institutions acquire, spend and manage financial resources (cash) through financing, investment, and risk management decisions.

How does finance differ from accounting?

Finance is forward-looking and cash-focused; accounting is backward-looking and focuses on profit and historical reporting.

What is a residual claim in finance?

Shareholders have a residual claim on the firm’s cash flows after debts and expenses are paid, making them riskier and requiring higher expected returns.

What are the three core decisions in finance?

Financing (raising cash), Investment (allocating cash), and Risk management (managing cash and risk).

What is a primary market transaction?

When a company issues securities and receives cash (e.g., IPO); the cash flows go to the issuing company.

What is a secondary market transaction?

Trading of existing securities between investors; no new cash flows go to the issuing company.

What is IPO underpricing?

The phenomenon where IPOs are priced below subsequent market price; the average first-day return in the US is around 17–20%.

What is a placement in primary market terms?

A sale of shares to a select group of institutions at a discount to raise cash quickly, without a broad public offering.

Why is liquidity important in finance?

Higher liquidity means easier buying and selling; more liquid assets are more attractive due to easier exit opportunities.

What does the equation V = D + E represent?

The value of a firm’s assets equals the value of its debt plus the value of its equity.

Why is cash described as 'king' in finance?

Cash is needed to pay bills, invest in projects, pay debt, and pay dividends; profits without cash have no immediate value.

What is simple interest?

Interest calculated only on the initial principal, with no interest-on-interest.

What is the formula for future value with simple interest?

FV = PV × (1 + r × n) where r is the simple interest rate and n is the number of periods.

What is compound interest?

Interest earned on both the initial principal and accumulated interest over time.

What is the formula for future value with compounding?

FV = PV × (1 + r)ⁿ where r is the per-period rate and n is the number of periods.

What is present value and its formula?

PV = FV / (1 + r)ⁿ; it brings future cash flows back to today based on a discount rate r.

What is the difference between effective and stated rates?

Stated rate is per period; effective rate accounts for the frequency of compounding. Effective rate = (1 + r/m)^m − 1, and the basis of quotation should match compounding frequency.

What three factors drive the time value of money (R)?

Inflation, opportunity cost, and risk.

What is risk aversion?

A tendency to prefer lower risk with the same expected return, demanding a higher return for taking on more risk.

What factors cause stock prices to move?

Changes in expected cash flows and changes in the market’s required rate of return due to risk, inflation, and other factors.

What is an agency problem?

When managers’ actions may conflict with the shareholders’ value maximization, e.g., misusing cash or pursuing self-interested goals.

What is a mutually exclusive project?

Choosing one project excludes the other; projects must be ranked using present/future value calculations at a given required rate of return.